Feb 6, 2017
Executives
Gabriel Tirador - President & CEO Ted Stalick - SVP & CFO Chris Graves - VP & Chief Investment Officer Robert Houlihan - VP & Chief Product Officer
Analysts
Greg Peters - Raymond James Ken Billingsley - Compass Point Alison Jacobowitz - Bank of America Merrill Lynch
Operator
Good afternoon. My name is Jessie, and I will be your conference operator today.
At this time, I would like to welcome everyone to the Mercury General Quarterly Conference Call. All lines have been placed on mute to prevent any background noise.
After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] This conference call may contain comments and forward-looking statements based on current plans, expectations, events, and financial and industry trends, which may affect Mercury General's future operating results and financial position.
Such statements involve risks and uncertainties, which cannot be predicted or quantified and which may cause future activities and results of operations to differ materially from those discussed here today. I would now like to turn the call over to Mr.
Gabriel Tirador. Sir, please go ahead.
Gabriel Tirador
Thank you very much. I would like to welcome everyone to Mercury's fourth quarter conference call.
I'm Gabe Tirador, President and CEO. In the room with me is Ted Stalick, Senior Vice President and CFO; Chris Graves, Vice President and Chief Investment Officer; and Robert Houlihan, Vice President and Chief Product Officer.
Before we take questions, we will make a few comments regarding the quarter. Our fourth quarter operating earnings were $0.58 per share, compared to $0.52 per share in the fourth quarter of 2015.
The improvement in operating earnings was primarily due to an improvement in the combined ratio from 102.2% in the fourth quarter of 2015 to 99.2% in the fourth quarter of 2016. In California, we recorded an increase in personal auto severity in the mid-single-digit range for the 2016 accident year and an increase in frequency in the low single-digits.
To help offset the increase in loss trends, we have been increasing rates in California. Last year in our personal auto business in California, we implemented a 5% rate increase in late March 2016 for Mercury Insurance Company and a 6.9% rate increase in June 2016 for California Automobile Insurance Company.
In addition, a 6.9% rate increase is pending approval with the Department of Insurance for California Automobile Insurance Company. Personal auto premiums in Mercury Insurance Company represents about half of our companywide premiums earned and California Automobile Insurance Company represents about 15% of our companywide premiums earned.
We have observed a significant number of our competitors also file for rate increases in California. Outside of California, increasing loss cost trends had negatively impacted our results.
To address profitability outside of California, we have been increasing rates and tightening our underwriting. The expense ratio in the quarter declined to 24.9% from 25.9% in the fourth quarter of 2015.
The decrease in the expense ratio was primarily due to lower profitability related accruals. Net advertising expense in the quarter was $5.5 million compared to $5 million in the fourth quarter of 2015.
Premiums written grew 2.9% in the quarter, primarily due to higher average premiums per policy. Companywide private passenger auto new business applications submitted to the company decreased to approximately 8% in the fourth quarter of 2016, as we focused on improving profitability in our private passenger auto line.
Companywide homeowners' applications increased about 7% in the fourth quarter of 2016. In California, we posted premiums written growth of 5.4%, outside of California, premiums written decreased by 8.1% in the quarter.
With that brief background, we will now take questions.
Operator
[Operator Instructions] Your first question comes from Greg Peters with Raymond James. Your line is open.
Greg Peters
Good morning, everyone. Thank you for the call and taking our questions.
I wanted to just ask a couple of questions around some previous comments you've made. I think you said in the last quarter that you plan to file a class plan in Mercury Insurance.
At that time it was 90 days. Where are you with that and do you anticipate that you'll be looking for some additional rate at Mercury Insurance?
Gabriel Tirador
I think that we're getting close to five net I would say within the next probably 30 to 60 days. We plan on making that buying and I anticipate that the class plan where term was about low single digit rate increase anywhere from - up to 5% let's say is what we're expecting right now.
Greg Peters
Perfect, thanks. And then in Cal Auto, I know you said you're waiting for approval on another 6.9%.
And I think in the past, you've provided us some color that you think that's more of your standard to non-standard book of business versus Mercury Insurance is just more of your preferred book. Can you give us what your perspective is in the non-standard market?
We're hearing of a lot of challenge results from your peers and I'm just curious where you think we might be in that pricing cycle and is it reasonable to expect that profitability should improve in that component over the next year or two?
Gabriel Tirador
I think that's varying by company depending on how early they are in the cycle with respect to getting their rate approvals. We started increasing rates both inside and outside of California quite some time ago.
So, we feel that from a rate perspective 2017 is going to be a much better year for us. [Indiscernible] with the last stream continue to do, so I think it’s going to vary by company.
There are some companies there maybe – we're behind them a little bit and may take a little longer for the rate to catch up to the last cost trend. So, I do think it’s going to be Company specific depending on whether as the cycle but there is no question that there is pressure.
Severity trends are definitely up really in bodily injury, severity, material damage severities up as well, so there is no question that there is increase loss cost pressure. If that stabilizes though, I think that the rate actions that we've taken is really going to help profitability in 2017?
Greg Peters
And how did the severity trend and frequency trend in the fourth quarter? I know you've provided some color around that in the second and third quarters last year.
Where were we in the fourth quarter?
Ted Stalick
It's pretty comfortable mid - high mid single digit some severity in both single digit product frequency and we get start our latest fast track in California, pure premiums running close to 10%, frequency about 5%, severity about 5%. So I think we’re a little under fast track industry but it’s still mid to upper single-digit for us.
Gabriel Tirador
And that's what a 12 month period I think - ending in September because there are quarter behind.
Greg Peters
Okay, thank you for the color. I'll just close out with one other question.
I know there's sometimes other analysts that are on the call. I noticed that you took a realized loss in the quarter and I thought maybe, Chris, if you could tell us what's going on there?
Chris Graves
We mark-to-market the entire the portfolio, so we did - most of that is just mark to market changes in the quarter particularly with fixed income having sold off but there is a small up down we talked about 12 million in losses that we realized against capital gains from prior period. So there is added in there as well.
Gabriel Tirador
And that was part of as planning utilizing expiring capital gains.
Ted Stalick
Our portfolio is - so everything flows to the income statement as it relates in a loss changes in market values as well.
Chris Graves
… for 2008.
Greg Peters
Okay, perfect. Thanks for the color.
I’ll re-queue.
Operator
[Operator Instructions] The next question comes from Ken Billingsley with Compass Point. Your line is open.
Ken Billingsley
Good morning out there. Question is on - and I apologize if you mentioned this.
I got in just a little bit late. For the 2.7 points on the reserves increase, can you talk about where that's coming from specifically?
Maybe the fourth quarter number, I estimate that's around $14 million/$15 million of unfavorable development. What year is that coming from?
Gabriel Tirador
It’s generally for the year - it’s generally California and Florida Personal Auto and Commercial Auto and the half of it is from the 15 accident year and the rest is kind of spread across preceding couple 2, 3 years.
Ken Billingsley
And did you - just looking at- the question I have then, and I hope I'm not looking at this wrong, so I look at the accident year loss pick for 2015, and this is excluding cats, and my calculation is about 71.5%. And I'm showing that you're pretty much in the same position for 2016.
So if you're taking reserves up for - you said half of it is for 2015, does that mean that maybe your accident year loss picks even need to be a little higher for 2016, or is the rate flow that you - the rate approvals you've already received going to offset most of that uptick?
Gabriel Tirador
So we've taken substantial rate beginning in 2015 and into 2016 so our belief is that the rates that we're earning in 2016 has outpaced or at least equal the loss trend.
Ted Stalick
And I will say the accurate year combined ratios at a 98% and we are all for a 2016 but in overall we are anticipating and have been quoted higher severity and 2016 on an accident year basis there is no question about that.
Ken Billingsley
And were there any current year adjustments, maybe true ups at the end of the year? So current year adjustments for 2016?
Gabriel Tirador
We really evaluated on a year-to-date basis so we prefer to comment on the year-to-date and versus more than the intra-quarter number as far as development goes.
Ken Billingsley
Okay. So maybe year to date - I mean on a cumulative basis, was there?
Gabriel Tirador
Correct. No.
Ken Billingsley
Okay. And the last question and turn it back into the queue is, just looking from a statutory surplus underwriting leverage, saw the statutory surpluses remained relatively flat year-over-year.
From a premium standpoint, how much can you take the leverage up? Given that your top line is still growing but the surplus is remaining flat, where is the comfort level on that underwriting leverage?
Gabriel Tirador
We think that the premiums to surplus in 2017 will be relatively flat for it was depending on what happens with our dividends.
Ted Stalick
We expect our operating earnings in 2017 be quite competitive 2016 and we don't really anticipate 2017 will have a lot of top line growth. So if those two things are achieved, I don’t think you can assume much movements and the premiums to surplus ratio for 2017.
Ken Billingsley
Okay. And then the expectation, obviously, that the payout ratio would be under 100% so you wouldn't have a decline in surplus?
Ted Stalick
That is certainly the objective.
Ken Billingsley
I understand. Thank you for taking my questions.
Operator
Your next question comes from Alison Jacobowitz with Bank of America Merrill Lynch. Your line is open.
Alison Jacobowitz
Hi. Thanks.
I'm just wondering if you could talk maybe a little bit about the weather in California. The rain levels in the first quarter if you can, and if there was anything seasonally in the fourth quarter of note that was of note from a weather standpoint?
Gabriel Tirador
Well I think our [menial] has come in little late in my opinion. Forecasters have said that that our menial was coming last year in my opinion regarded a year late because we had a significant amount of rain, certainly 2.5 hours to get into the office this morning because of the rain.
And so there is definitely a lot of rain and its going to impact our home-owners results in the first quarter as an example, we received a lot of rain related claims in the first quarter. As far as the fourth quarter goes, Ted do you have any comments on that?
Ted Stalick
It was a typical fourth quarter, a little bit elevated frequency but petty typical.
Alison Jacobowitz
Thank you.
Operator
Your next question comes from Greg Peters with Raymond James. Your line is open.
Greg Peters
Great, I just wanted to follow-up with just a couple other questions. First of all, Gabe, I think your objective from a combined ratio perspective.
I think you previously said you want to get the combined ratio down to around 96% or better. One, can you confirm that, that's your target?
And then two, what's the time horizon where you think you might be able to get to that objective, if there is that objective?
Gabriel Tirador
Well one, yes, it is and I think 2017 - I don't think that we're going to get there probably all the way down there in 2017 but I certainly would expect our objective to be there in 2018.
Greg Peters
Okay. And can you - just a couple housekeeping items.
I know your bonus accruals were down in 2016 and is there an expectation that you're going to be paying out these bonus accruals in 2017? And then also have you set your objective for your advertising budget for 2017 and how does that compare with 2016?
Gabriel Tirador
As far as the bonus accrual for 2017, we expect to create A bonus what that level would be, it’s hard to say at this point but it was zero - bonus accrual was zero was 2016. In 2017 they insist patient is that there will be some bonus accrual in 2017.
And what was your second part of the question? Advertising would be similar about 14 million or so 2016 and 2017 we anticipate we anticipate the advertising spend to be similar.
Greg Peters
Okay. And then the final question I have for you, you talked about the rain and affecting your drive and weather-related losses.
Could you, one of the most difficult things I've had in following your Company is trying to understand exactly how your catastrophe exposures layout. Could you provide us some color around where your book of business, where the exposures are and where the catastrophe risk is when we think about quarter-to-quarter volatility?
Gabriel Tirador
I think it varies obviously by state in California we have main related events, and we follow [isle] when they name a cat, we follow that definition of a cat and historically we varies about I think over the last five years something in the neighborhood of about $24 million, $23 million something and then they were hitting cat losses. This last year in 2017 was little high I think it was $27 million in 2016.
So, we obviously price in for that amount of cat when we make our estimates but in California you’re looking at primarily rain related events. Outside of California you have wet events in homeowners that are probably your biggest exposure in Texas and in the Northeast Asia working exposure we have fire powering earthquake as an exposure here in California, we've wild fires and exposures here in California, so it does very little bit by state.
I don't know if that answered your question.
Greg Peters
That was very helpful. Thank you very much.
Operator
There are no more questions at this time. I’ll turn the call back to the presenters.
Gabriel Tirador
Well, I'd like to thank everyone for joining us this quarter and we look forward to talking to you next question. Thank you very much.
Operator
This concludes today's conference call. You may now disconnect.